Questions In The Financial Times About The Euro That We Can Answer

It is a question that I have been asking myself for a while: at what point does it become economically rational for a country to leave the eurozone?

Which is a difficult question to answer although we'll have a stab at it. Next week? Tomorrow? Yesterday? Any day after they join? In fact, never join it at all?

The correct answer is somewhere in that range with my own personal prejudices thinking that the last answer is the best one.

Muenchau then does a quick trot through the basics of when. having already joined, it does make sense for a country to leave and points out that Cyprus is well past that point. As, arguably, is Greece. However, that Cyprus should leave is well know, Krugman pointed it out last week for example. That Greece should leave certainly isn't a surprise to anyone. Where Muenchau will be worrying people is where he goes next:

And that answers the second question. Cyprus is more likely to return to debt sustainability outside the eurozone, because a lower exchange rate would reduce net debt, and because of a faster resumption of economic growth.

The same is ultimately true of Spain as well. Jeroen Dijsselbloem, Dutch finance minister and president of the eurogroup of eurozone finance ministers, unwittingly answered that question when – in an interview with the Financial Times – he shocked the world by telling the truth.

If Spain leaves then there's absolutely no point in either Portugal or Italy staying in. Something which is also pointed out. However, it gets worse than that too.

Imagine that Spain and Italy do leave. There will obviously be large losses on government bonds and commercial loans as these are redenominated into the new peseta and new lira. And yes, they will be so redenominated: there's no point in leaving if they remain in the new "hard euro". The problem here is the way that the various bailout funds like the EFSF and so on are structured. All countries in the schemes are liable for their share of the guarantees. So, Italy is currently guaranteeing Greece and Portugal and Spain, Spain is guaranteeing Italy and Greece and so on. The point being that places like Belgium and France are also guaranteeing everyone else.

But, as countries drop out (or enter into restructuring programs) they drop said guarantees. Thus the guarantees fall on fewer and fewer countries: just as the losses they are guaranteeing start to crystalise. Which will mean that countries like Belgium and France, already looking slightly doddery in their finances, end up having to cough up large amounts for those very guarantees.

At which point they go bust too. The end game therefore sees currently solvent places go under: leaving again those guarantees to be bourne by ever fewer nations with healthy finances until all of them finally redound upon Germany. And Germany, vast economy that she has, doesn't have enough money to pay for it all.

I've said this before and no doubt will say it again but the way they set up the euro, the eurozone, the way they've cross guaranteed everything, makes the system like Ourobouros, the worm that eats its own tail. If any of the larger economies drop out then the feedbacks in the system destroy the entire system.

This is not good news for the European economy. And it does make the correct answer to "when should we leave the euro?" into "well, how soon do you think you can organise it?"